Understanding Probate Assets

What you need to know

What if the people you thought would inherit your estate didn’t – simply because you weren’t advised about the difference between “probate property” and “non-probate property”? (Probate is the court-supervised legal process by which a deceased persons assets are distributed.)

Many people unwittingly add to the difficulties facing their descendants by not understanding the importance of coordinating their “non-probate” assets with their estate plan. In this newsletter, I will lay out the problem – which you may have and not even know it – and talk about how to make sure everything works the way you intend.

You Don’t Know What You Don’t Know

Do you have you a will?  If so, you may assume that all of your property will be distributed according to the terms of that will.  Unfortunately, what you may not realize is that the terms of your will are not going to direct the disposition of some of your assets – or, perhaps, most of your assets.

Your will if you have one (and state law, if you don’t) dictates how your assets will be distributed to your spouse, your family, and your favorite charities. But, it is important to recognize that only “probate assets” will be distributed by the terms of your will – your “non-probate” assets will not.

Life insurance and retirement accounts (such as 401(k) plans and IRAs) are classic examples of non-probate assets. When you die, these assets are usually distributed to the person you designated as your beneficiary.

Other assets, such as your house, checking and savings accounts, and investment accounts could be probate or non-probate assets. With these assets, title is the determining factor.  For instance, John and Mary Smith are married. If their house deed lists them as “John Smith and Mary Smith, as husband and wife,” their house is probate property and the disposition will be governed by their will. If title is listed as “John Smith and Mary Smith, as joint tenants with right of survivorship,” the house will pass as non-probate property to the surviving spouse at the first spouse’s death. The same applies to bank and investment accounts.

Does it matter whether the house passes to the surviving spouse via title or according to the terms of a will? Absolutely – depending on the individual’s plan, the differences can be profound!

Meet Justin and Lindsay

Consider Justin and Lindsay, a married couple in their early forties with two children, aged 12 and 15.  Justin and Lindsay own $2 million in joint assets, including their house and retirement accounts, and each has a $1M term life insurance policy.

Their basic plan is pretty straightforward.  If one of them dies, they want the surviving spouse to have access to all of their wealth; at the second death, they want whatever is left to pass primarily to the children, with some charitable gifts.
After talking to their attorney, they decide that their plan should include a trust that will be funded at the first death with the assets of the first spouse to die.

There are many good reasons to create a trust as part of an estate plan – even for those of relatively modest means.  In Justin and Lindsay’s case, a trust will help them reduce estate taxes and help them ensure that the assets owned by the first spouse to die will actually pass to their children and not be spent contrary to the deceased spouse’s wishes.

Unfortunately, what Justin and Lindsay didn’t know – and their attorney didn’t adequately explain – is that the plan in their will, the one they worked so hard on, won’t be implemented if one of them dies. Why?  Because they have little or no probate property to fund the trust – all of their significant assets will instead pass according to beneficiary designations and title.

When a Will Is a Won’t

Like many people, when Justin and Lindsay bought their house, opened their investment accounts, and filled out their 401(k) beneficiary designations, they paid little attention to the named beneficiaries on their retirement and life insurance accounts and even less attention to how their real estate and investment assets were titled.

They had named each other as the beneficiary of their life insurance and 401(k) accounts; the house’s deed was titled as “joint tenants with right of survivorship”. Their investment account was titled in both of their names with a “payable on death” provision that would transfer the entire account to the surviving spouse.

As a result, if one of them were to die, there would be no probate property to be distributed according to the terms of the will. Instead of funding a trust at the first death to protect their children’s inheritance and reduce estate taxes, the surviving spouse would inherit everything, frustrating their plan.

The Un-Charitable Donor

Failure to coordinate non-probate assets as part of an estate plan can create havoc in blended families where the parties have taken care to create a plan to protect everybody’s interest. This can also be problematic where the parties want to leave assets to charity or other beneficiaries.

This is not a minor, theoretical problem. I was involved in a case in which a charity did not receive a gift at the donor’s death because the bulk of the donor’s wealth was held in her checking account which had a “payable on death” provision for the benefit of one of her two daughters.  As a result, at the donor’s death, the vast majority of her wealth passed to one daughter (apparently contrary to her wishes). The charity and the other daughter were left in the lurch.

How To Make Sure Your Plan Gets Implemented

Could this happen to you or your family?  Unfortunately, yes.

Most people fail to understand the importance of beneficiary designations and title on their estate plan. Banks and financial institutions, for instance, often encourage people to create payable on death accounts, and the customer agrees without considering the impact on his or her estate plan.

Periodically reviewing your beneficiary designations and title to your assets is an essential part of your estate planning process. Seemingly minor differences in title can have a profound impact on how assets are distributed after death.
So, how should you designate and title your non-probate assets?

  1. Discuss and determine your personal goals for asset transfer
  2. Work with an experienced estate attorney who will consider ALL of your assets, those falling in and outside probate and explain how this impacts your goals
  3. Confirm that your beneficiary designations and title are consistent with your estate plan, and if not, correct them.
  4. Structure a plan for the future that aligns all of your assets with your goals, and commit to periodic reviews as life changes occur.

Final Thoughts

Estate planning is not just for the very wealthy.  Anyone who owns property, investments, and/or life insurance should have a conversation with an estate planning attorney.

To learn more about how Cairn Law can help you create, review, or revise your estate plan and explore the probate services we offer, visit our website. We also encourage you to share this newsletter with a friend.

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